Passive and active investors want a level playing field

Passive investors and active investors have both been helped enormously by the number of websites that collate investment-related data and present it in a readily digestible form.

However, some of these are hosted by investment product providers and may not offer a complete overview of the market for commercial reasons. Leaving those aside these sites, and the press, offer a comprehensive review of the market; or do they?

There is a subtle form of differentiation going on between active and passive funds

This different treatment makes it difficult to compare a passive fund with its active rivals.

There are a number of sites that offer comparisons between funds:

  • Citywire, for example, lists 254 active funds in the UK All Companies Sector;
  • Trustnet records the total as 273 because it includes passive funds as well.
  • Morningstar gives a similar total of 270 members for the sector, across both passive and active funds.

Trustnet benchmarks passive funds against the relevant index while active funds are compared to the UK All Companies Sector. In other words, active funds are measured against their peers, i.e. net of costs, while passive ones are assessed against an index that is not hampered by charges and fees.

Moreover, the site does not assign a quartile ranking to passive funds making it harder to see how they rank against competitors, active or passive.

Citywire says it does not include passive funds because it rates managers and not funds. While that is a valid argument it doesn’t make life easy for the investor.

Leaving some funds out makes others look better in the league tables

For example, over the six months to the end of July, passive funds make up 9 of the top 20 best-performing funds in the UK All Company Sector. But why has this happened?

The recent stock market rally, driven largely by quantitative easing, has aided active funds that have tended to focus their attention on the mid-cap stocks that are more sensitive to a UK recovery than the blue chips at the top of the FTSE 100.

Passive funds, on the other hand, are generally cap-weighted and so they tend to hold a greater portion of the less cyclically sensitive large-cap blue chips.

This year profit warnings have taken the shine off a number of companies and the more highly rated stocks in the FTSE 250 had further to fall than larger and more conservatively valued blue chips.  This has favoured passive funds at the expense of active funds.

That change in sentiment has highlighted one difference between active and passive funds and has demonstrated the difficulty in comparing the two approaches. Needless to say, the advent of Smart Beta funds further complicates the issue.

As far as investors are concerned they simply want a level playing field so that they can make simple comparisons of all types of funds in the asset class, be they active, passive or smart beta.

While it makes sense to compare passive funds to a relevant index benchmark it is also helpful to see how they perform against their active competitors. 

Comparison websites should facilitate this task, not make it difficult.

This guest post was written by Rob Davies who manages the VT Maven Smart Dividend Fund.

Author: John Kingham

I cover both the theory and practice of investing in high-quality UK dividend stocks for long-term income and growth.